Business Law

Summary Judgment Exonerating Bank Accepting Forged Checks Reversed

The following is an update analyzing a recent case of interest:

Summary

In Severin Mobile Towing, Inc. v. JPMorgan Chase Bank, N.A., 2021 WL 2351648 (Cal. Ct. App. June 9, 2021) the California Court of Appeal reversed a trial court ruling under Article 3 of the Uniform Commercial Code which exonerated a bank from liability for accepting for deposit to an employee’s account a series of checks payable to his employer, but indorsed simply with an illegible scrawl which appeared to be the employee’s initials. A copy of the opinion may be found here.

Facts

Guillermo Oseguero was employed by Serverin Mobile Towing, Inc., (dba “USA Towing and Recovery,” as a lot manager. He was “100% responsible for running the lot.” Tow trucks bringing cars to the lot would give Oseguero an invoice which Oseguero was supposed to enter into Severin’s computer system. People coming to retrieve their towed vehicles would give Oseguero a check payable to USA Towing, and he would then release the vehicle. At the end of the day, Oseguero would take checks and invoices to Asad Raffo, one of the owners of Severin. , No one at Severin reviewed Oseguera’s files or compared the invoices he delivered at the end of each day to the original invoices in his files.

It was discovered that from time to time Oseguero would steal one or two checks and misfile the related invoices. During the period from January, 2014 to September, 2016, Oseguero deposited into his own account, at Chase Bank, 211 checks payable to “USA Towing” totaling $156,805.30. Each check was for an amount less than $1,500 and was deposited at an ATM. Oseguera indorsed the checks with what appeared to be his own name or initials, rather than the name Severin or USA Towing. Immediately after being confronted with one of the fraudulent transactions, Oseguera fled the jurisdiction. After discovering the embezzlement, Severin adopted several new procedures including use of invoices in triplicate, with a copy to one of the owners, and division of responsibility for intaking and releasing vehicles.

Severin sued Chase in August, 2017 to recover the misappropriated funds. The complaint stated causes of action for negligence and conversion and a claim based on California’s unfair competition law Business & Professions Code section 17200 (“UCL”). Severin moved for summary adjudication of its conversion claim while Chase moved for summary judgment on all of Severin’s claims. The trial court granted summary judgment to Chase on all claims. It also held that some of the claims, based upon 34 of the 211 checks, were barred by the statute of limitations. The Court of Appeal reversed as to the conversion claim and UCL claim.

Reasoning

The Court applied two sections of the Uniform Commercial Code concerning the liability of a depository bank which takes a check for collection based on a fraudulent indorsement. UCC section 3-405 specifically deals with an employer’s responsibility for fraudulent indorsements by an employee. Section 3-405 provides, in part that “if an employer entrusted an employee with responsibility with respect to the instrument and the employee . . . makes a fraudulent indorsement of the instrument, the indorsement is effective as the indorsement of the person to whom the instrument is payable if it is made in the name of that person. If the [depositary bank] fails to exercise ordinary care . . . and that failure contributes to loss resulting from the fraud, the person bearing the loss may recover from the person failing to exercise ordinary care to the extent the failure to exercise ordinary care contributed to the loss.”  

UCC section 3-406 subdivision (a) states that “[a] person whose failure to exercise ordinary care contributes to . . . the making of a forged signature on an instrument is precluded from asserting the . . . forgery against a person who, in good faith [takes the instrument for collection].” Subdivision (b) states, however, that where “the person asserting the preclusion fails to exercise ordinary care . . . the loss is allocated between the person precluded and the person asserting the preclusion according to the extent to which the failure of each to exercise ordinary care contributed to the loss.”

Severin did not contest the dismissal of its negligence claim, nor did it dispute the summary adjudication ruling based on the statute of limitations as to 34 of the checks. The parties focused on whether Chase had exercised ordinary care within the meaning of UCC sections 3-405 and 3-406. Chase submitted proof that under its “Deposit Review Operations” procedures, checks under $1,500 deposited at ATM’s were “automatically processed and accepted for deposit without human review.” Accordingly, every check at issue “was processed by automatic means and accepted without review for deposit into Oseguera’s account.” Chase contended that its handling of the checks fell within the safe harbor of UCC section 3-103(7), which provides in part that “Ordinary care” means observance of reasonable commercial standards, and in the case of a depositary bank that takes a deposited check “by automated means, reasonable commercial standards do not require the bank to examine the instrument if the failure to examine does not violate the bank’s prescribed procedures . . . .”

The Court did not reach the issue of whether this showing by Chase was sufficient to satisfy the standard of ordinary care. This was because both sections 3-405 and 3-406 impose threshold requirements. Section 3-405(a)(2) states that “‘[f]raudulent indorsement’ means . . .  in the case of an instrument payable to the employer, a forged indorsement purporting to be that of the employer. [italics added]” The Court appended to its opinion a copy of one of the checks which was indorsed on the back by a squiggle which appeared to be a set of illegible initials. The Court concluded that such indorsements could not be interpreted as having been made “in the name of the employer.” If section 3-405 did not apply at all, then its provision which makes the indorsement effective, and which imposes a comparative negligence standard, would not govern.

As to section 3-406, the threshold requirement is negligence on the part of the victim, i.e., Severin. Section 3-406 provides a defense to liability for accepting a check with a forged signature if the victim failed to exercise ordinary care and the bank accepted the check in good faith. If those conditions are satisfied, then comparative negligence applies if the bank were negligent as well. Severin and Chase submitted conflicting evidence as to whether ordinary care was exercised in supervising Oseguera. The Court concluded that a disputed fact issue existed on that point, stating that “we cannot say as a matter of law that a family-owned business ‘fail[ed] to exercise ordinary care’ in supervising its long-time, trusted employee . . . .”

Finally, without any further discussion, the Court ordered that “because Severin’s UCL claim is derivative of its conversion claim, and because summary judgment was erroneously granted as to the conversion claim, the UCL claim will be reinstated.”

Author’s Comment

A check payable to USA Towing could only have been validly indorsed in the name of the payee, i.e., in the name of Oseguera’s employer USA Towing. The defense provided for in UCC section 3-405 applies only to “a forged indorsement purporting to be that of the employer.” Severin Mobile Towing holds that when a check is indorsed only with an illegible squiggle, and then presented to the depositary bank as if it were validly indorsed, that would not be a case of a “fraudulent indorsement” (within the meaning of section 3-405) or of a “forged signature” (within the meaning of section 3-406). One could question either conclusion.

This case also illustrates the operation of UCC section 3-103(7), which provides that a bank need not review at all the indorsement of a check deposited in an ATM, if that policy does not “vary unreasonably from general banking usage.” In other words, for small ATM deposits “ordinary care” can mean not taking any care at all.

Probably in the future all endorsements on ATM deposits can be examined by artificial intelligence in real time. We can then perhaps also look forward to waiting uneasily while our scrawl on the supermarket touchscreen is actually vetted. But if that technology is widely employed, the bar on “general banking usage” would be raised, wouldn’t it?

The Commercial Finance Newsletter is written by an ad hoc group of the California Lawyers Association’s (CLA) Business Law Section. These materials were written by Dean T. Kirby, Jr. a member of the firm of Kirby & McGuinn, A P.C., located in San Diego, California. Mr. Kirby is a member of the ad hoc group and a member of the Commercial Transactions Committee of the Business Law Section. Editorial contributions were made by the Honorable Meredith Jury (United States Bankruptcy Judge, C.D. Cal, Ret.), also a member of the ad hoc group. The opinions expressed herein are solely those of the author. Thomson Reuters holds the copyright to these materials and has permitted the Commercial Transactions Committee to reprint them. This material may not be further transmitted without the consent of Thomson Reuters.

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